Keith Kahn-Harris finds a grand party can be had just by amiably bar-hopping in the grand duchy of Luxembourg.

I'm sitting, hung-over, in a sauna full of naked men and women taking part in a Japanese ritual, while a guy clad only in a towel sprays water, bangs gongs and burns incense. It's the morning after a protracted night of drinking, walking and discovering.

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This scene wouldn't be unusual in Bangkok, or even Berlin, but my hedonistic destination of choice is one of Europe's lesser-known capitals, Luxembourg city. The tiny sovereign grand duchy has more Michelin stars per head of population than any other European country, and the high proportion of foreign residents and visitors ensures a cosmopolitan atmosphere.

There's a surprising number of stylish places to stay, eat and party, and the compact city of fewer than 90,000 people is gently nudging things along with a new policy of free entry to its nightclubs and bars. There is also a novel way of getting home at the end of the night. Nightrider, a cross between a bus and taxi (+352 9007 1010, nightrider.lu), operates from 6pm until 5am on Friday and Saturday nights and will pick you up and drop you to your door for a fraction of the price of a taxi - from €3 ($3.80) a head for a party of four.

You can also still smoke indoors, which might be enough of a draw for some; it certainly creates a decadent atmosphere in these strait-laced times.

The heart of Luxembourg city is essentially a giant old fortress, a plateau protected by sheer cliffs. Much of it is pedestrianised and the square in the heart of town, Place d'Armes, is a good place to orient yourself. The old town is chocolate boxy, and the main square is overlooked by a new, staggeringly opulent hotel, Hotel le Place d'Armes (hotel-leplacedarmes.com, doubles from €320).

I'm visiting the city to see what the nightlife has to offer. The old town is the obvious place to start, and I persuade Brian, an Irish journalist and long-time resident, to show me around. Urban City (6 rue de la Boucherie, urban.lu) is a popular drinking spot near the Ducal Palace, crammed with multilingual natives and work-hard-play-hard expats.

After a pint or two we leave in search of more space and quiet. We pass up the old town's glitzy clubs and bars and head for the Grund, a warren of narrow streets on the banks of the Alzette River. With the old town and the cliffs illuminated, it's as atmospheric as Prague, with a hint of Paris' Left Bank.

Slightly above the Grund, Cafe des Artistes (22 Montee du Grund) is an intimate bar with an old piano and a languid atmosphere that apparently (although not tonight) bursts into spontaneous sessions of whatever is the Luxembourgish equivalent of chanson. It's a great place to people-watch, thanks to the bohemian crowd and a few bottles of local beer.

Grund is also the location of a restaurant named Mosconi, which has two Michelin stars (13 rue Munster, +352 54 6994, www.mosconi.lu). Its pasta tasting menu looks tempting but it's pricey (eight courses, €72). From the Grund, it's a short but hilly stroll to Rives de Clausen (rue Emile Mousel, rivesdeclausen.eu). This recently converted brewery has become a nightlife centre, with a range of bars, restaurants and clubs thronged with Luxembourg's young and beautiful people.

Rue de Hollerich, a short cab ride away in the south of the city, is the home of the edgier end of Luxembourg nightlife. At numbers 42-44, bars and nightspots are clustered around a small courtyard. We start in The Lab, which is where things begin to get blurry. It has a long, dark bar with fluorescent green lighting and a medical theme; shots served in test tubes and oxygen on tap. A few steps across the courtyard is Decibel (decibel.lu), a rock bar with friendly Irish owners and draught Guinness.

While Luxembourg is by no means a Berlin-style nest of debauchery, the city's size, safety and beauty make it ideal for nocturnal wandering from venue to venue. But perhaps it's the sheer number of foreigners in the city (37 per cent of the country's population are immigrants) that makes it welcoming to the casual visitor. On our night out, Brian and I fall into conversations with strangers everywhere we go.

I recover the next day at Domaine Thermal (+352 2366 6666, mondorf.lu), a 20-minute bus ride from the city in Mondorf-les-Bains. The spa has an outdoor-indoor thermal mineral bath heated to a blissful 36 degrees. You can't wallow for too long - 20 minutes maximum is recommended - but there's a complex of saunas (where the nudity and gong-banging took place), steam rooms and even more pools. At €32, day membership is great value.

Luxembourg city has some formidable tourist attractions, such as the Casemates du Bock, a warren of defensive tunnels dug into the rock, and the futuristic Mudam art museum (www.mudam.lu). But I spend my last day touring the rolling hills of the Ardennes, a 45-minute drive to the north, with a friend. We end up in the otherwise unremarkable village of Redange, which has been put on the map by a thriving music venue. L'Inoui Cafe-Theatre (67 Grand-Rue, Redange, +352 2662 0231, inoui.lu) is firmly part of the European jazz circuit and is the heart of a mini-empire, publishing a magazine and hosting a theatre school.

It's this incongruity that makes Luxembourg so appealing. A few days of partying in the Grand Duchy, in a city that's easier to navigate than Paris or Berlin, will dispel the stereotype of a boring country of bankers and Eurocrats.

Swiss Airlines has a fare to Luxembourg from Sydney and Melbourne for about $2320 return including tax. Fly Cathay Pacific to Hong Kong (about 9hr), then Swiss to Zurich (13hr 11min) and then to Luxembourg (1hr); see swiss.com. This fare allows travel via several Asian cities and return flight from another European city.